FHA Mortgage Insurance and Loans

The FHA does not make direct loans. Your FHA mortgage is issued by a lender, such as a mortgage company or a bank. FHA insures that mortgage, providing a guarantee to the lender that in case of default, FHA will pay the debt. In exchange for this guarantee, the borrower pays a mortgage insurance premium to FHA.

Although some conventional lenders will require mortgage insurance for loans with less than a 20 percent down payment, not all mortgages that require this type of insurance are FHA loans. There are other private mortgage insurance providers that will work with lenders and borrowers. FHA, however, is a government agency, and the largest mortgage insurance provider in the country. FHA has insured about 33 million homes since the program began in 1934.

Mortgage insurance, whether it is through FHA or a private insurer, is paid for by the borrower and adds to the cost of the monthly payment. When procuring a non-FHA loan that requires mortgage insurance, in many cases the borrower will not know the exact premium amount until the day of closing, and depending on the borrower’s credit, the premium may be unexpectedly high, in some cases, high enough to make the mortgage unaffordable.

FHA mortgage insurance, on the other hand, is a fixed percentage, so you know ahead of time what to expect. An initial premium of 1.5 percent of the loan amount is due at closing, and can be financed with the rest of the loan amount. Additionally, a monthly premium will also be due, equal to 0.5 percent of the loan amount, divided by 12. For example, with a $100,000 home, the initial premium would be $1,500, and then the monthly premium would be $41.66.

Banks and other lenders are more willing to make a loan to a subprime borrower when there is mortgage insurance, since they receive a guarantee that they will receive their money even if the borrower defaults.